Moving averages are the easiest to learn and therefore are the first technical indicator new traders use. But they are trend-following indicators that work best in strong trending markets. Moving averages really suck in choppy markets. I’ve seen many traders lose everything during choppy or range bound markets because they were using a moving average trading system.

All stocks will enter into periods of choppy or sideways trading. When that happens, you need to stop using moving averages and start using an oscillator. Oscillators are more responsive to sideways or range bound trading.

Master traders use oscillators to determine momentum, overbought and oversold conditions, and to identify negative and positive divergences between price and the oscillator.

But here’s what many traders don’t know. You can combine both trend-following indicators and oscillators with one indicator known as the MACD.

MACD Trading Using The 0 Signal Line

When the MACD is above the zero line, it indicates that the shorter-period moving average is above the longer period moving average, which indicates that the psychology of market participants in this stock is bullish.

When the MACD falls below the zero line, the shorter period moving average is below the longer-period moving average, indicating that the psychology of market participants in this stock is bearish.

MACD Trading Using Crossovers

Crossovers are the most popular use of MACDs: a sell signal is generated when the MACD crosses below the signal line, and a buy signal is generated when the MACD crosses above the signal line.

The locations of these crossovers in relation to the zero line are helpful in determining buy and sell points. Bullish signals are stronger when the crossing of the MACD line over the signal line takes place below the zero line. Confirmation of the signal takes place when both lines cross above the zero line.

Just keep in mind that using the MACD in this way makes it a lagging indicator. Just like moving averages—which are also lagging indicators—MACD crossovers work best in strong trending markets.

My Favorite Way To Use The MACD: Overbought vs Oversold

Another use for the MACD is to determine when a stock is either overbought or oversold.

I watch the histogram bars and as soon as I get a shorter bar below the 0 line the stock becomes a buy candidate. The stock is a sell candidate as soon as I get a shorter bar above the 0 line.

Keep in mind that using the MACD to signal possible oversold or overbought conditions makes it a leading indicator. A leading indicator is useful because it alerts you to what prices may do in the future. Leading indicators offer the potential of greater rewards—getting in on the ground floor—while exposing you to greater risk—the possibility of the expected move taking place farther off or never taking place at all.